Executive Diversification: Using Exchange Funds Without Selling
The Risks of Over-Concentration in a Single Stock
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Executives and founders who have amassed wealth in a single companyS stock face potential risks from over-concentration, despite the benefits of the tech stock boom. Financial advisors generally recommend limiting any single stock or asset to no more than 10% of an investor’s portfolio to mitigate risk.
Why Diversification Matters
Holding a disproportionately large amount of wealth in one stock creates both significant prospect and substantial risk for investors. Rob Romano, head of capital markets investor solutions at Merrill, stated that this situation “represents both the biggest risk and biggest opportunity for that client.” Diversification helps to protect against downturns specific to that company or sector.
Capital Gains Tax challenges
Founders and long-term employees frequently enough encounter significant capital gains taxes when selling long-held stock to diversify their portfolios. This can reduce the amount of capital available for reinvestment. For example, if an individual held stock for over a year, the gains are typically taxed at long-term capital gains rates, which, as of January 2026, can reach 20% federally, plus a 3.8% net investment income tax for higher earners.
Exchange Funds as a Diversification Tool
Rather of directly selling shares and incurring immediate capital gains taxes, investors can contribute their stock to an exchange fund, also known as a swap fund. These funds pool shares from multiple investors, providing each participant with a partnership interest or share of the fund. Investors typically face a lock-up period, commonly seven years, before they can redeem their investment.
How Exchange Funds Work
Exchange funds offer a tax-efficient way to diversify holdings. investors contribute appreciated stock to the fund and receive a partnership interest in return. The fund then sells the stock over time, spreading out the capital gains recognition. according to a 2023 report by Cerity Partners,exchange funds have seen increased interest as high-growth companies mature and founders seek to reduce concentration risk. https://www.ceritypartners.com/insights/exchange-funds-a-tax-efficient-diversification-strategy